This note does not reflect any comment on the right of taxation of capital gain on disposal of immovable property by the Federal Government. For the purposes of this note, it is assumed that such rights are held by the Federal Government.
DETERMINATION OF FAIR VALUE Through the Finance Act, 2016 introduced with effect from July 1, 2016 a sub-section was inserted in Section 68 of the 2001 Ordinance prescribing that fair value of the immovable property shall be determined by the panel of valuers as prescribed by the State Bank of Pakistan.
This effectively meant that in case of a dispute between the taxpayer and tax officer on the value of immovable property, the value was to be determined by the valuers as referred above. The basis of valuation as prescribed in the substantive provision of law changed the settled position, introduced by a beneficial circular issued by the Federal Board of Revenue in 1993. Under that beneficial circular, such values were restricted to values prescribed by the District Collector (generally referred to as 'DC value'). In addition to the above-referred beneficial circular, aforesaid values were recognised as fair value under Rule 228(a) of the Income Tax Rules, 2002. This Rule relates to addition that can be made to the taxable income of buyers (owners) of the immovable property where sources of income cannot be explained. This is hereinafter referred to as 'addition under Section 111' of the 2001 Ordinance.
The aforesaid amendment was made on account of a general reality that in most of the cases, actual prices of the immovable property were not commensurate with the DC values. The objective of the amendment was to introduce a concept of fair value for property transaction.
Through the Amendment Ordinance dated July 31, 2016, the concept laid down in the Finance Act, 2016 has been dispensed with and a completely new mechanism has been introduced. Accordingly, Section 68(4) of the 2001 Ordinance has been amended. Under the revised position, the fair value of immovable properties shall be equal to value as prescribed by the FBR on area to area basis. This means that DC values will not be the basis of determining tax incidence. Nevertheless, where such value has not been prescribed by FBR, then DC value shall remain applicable. Certain notifications have been issued by the FBR prescribing fair values for immovable properties of certain cities which are effective from July 31, 2016.
Under the amended system, value of immovable property shall be the actual price as declared by the taxpayer; however, if there is a dispute between the taxpayers and taxation officer, higher of the declared price and the value as prescribed by the FBR shall be taken to be fair value of that immovable property. It has also been clarified that if the fair value as determined above is different from the auction price, the applicable price shall be higher of the two.
It has further been provided by way of a new sub-section inserted in Section 68 of the 2001 Ordinance that values as determined by FBR shall be accounted for in determining:
1) The consideration for determining capital gains on disposal of immovable properties and tax thereon under the First Schedule to the 2001 Ordinance;
2) Collection of Advance Tax under section 236C from the transferor/seller and section 236K from the purchaser/transferee.
3) Addition to be made under Section 111 of the 2001 Ordinance for unexplained investments in immovable properties.
This means that in case of buyers (owners) of properties, addition to income under Section 111 of the 2001 Ordinance shall be limited to the value of property as laid down in valuation prescribed by FBR. This prescription will effectively override Rule 228 of the Income Tax Rules, 2002.
In case of properties other than open plot, this measure is concessionary over the existing regime as laid down in Rule 228 of the Income Tax Rules, 2002. This is for the reason that under the said Rule, in case of such properties addition under Section 111 of the 2001 Ordinance could have been made at the DC value or the fair value, whichever is higher.
The policy analysis of the scheme now prescribed reveals that a presumptive basis, not being actual price, has been laid down for value of properties for determining capital gains and addition to income for unexplained investments in properties. Accordingly, the difference between actual price, if higher than the prescribed price, will remain outside the ambit of documentation and related tax incidence.
Revised rates and basis of tax on capital gains on disposal of immovable properties Prior to the amendment made through the Finance Act, 2016, capital gain on disposal of immovable property was taxable if there was a disposal within two years of acquisition. Through the Finance Act, 2016, this period was extended to 5 years.
Through the above-referred Amendment Ordinance, the aforesaid period has again been revised to 3 years. This means that any gain on disposal of immovable property held for over 3 years will now be non-taxable. Consequential amendment has also been made in section 236C whereby no advance tax will be collected from transferor/seller of immovable properties held for more than 3 years. Further, no advance tax shall be collected under section 236K from the buyers / transferees of immovable properties valuing more than Rs 4 Million (previously this threshold was prescribed as Rs 3 Million).
Exceptions from collection of Advance Tax on sellers
Advance tax under section 236C will not be collected from the following persons:
-- A seller being a dependent of:
-- a shaheed belonging to Pakistan Armed Forces; or
-- a person who dies while in service of the Pakistan Armed Forces or the Federal and Provincial Governments;
-- The first sale by the original allottee duly certified by the official allotment authority.
Under the revised regime, two separate rates of tax have been prescribed for:
-- Properties acquired before July 1, 2016; and
-- Properties acquired on or after July 1, 2016.
In the case of properties acquired before July 1, 2016, gain on disposal of immovable property shall be taxable at the rate of 5 percent of the gain if the holding period is upto three years. This effectively means that in case of disposal of all immovable properties acquired before July 1, 2016, the difference between the declared cost of the property and the value of property as prescribed by FBR shall be taxable at the rate of 5 percent. This provision does not imply that taxpayers reflecting immovable property at the DC value will be entitled to revise the wealth statement to the prescribed fair value; however, as per correct application of law, provisions of Section 111 shall not be applicable for such difference.
There will be zero rate of tax on gain arising on disposal of properties held for over three years. This effectively means that for properties held for over three years, the actual consideration received on sale or the value to the extent of prescribed value would represent declared income without any tax incidence.
In the case of properties acquired on or after July 1, 2016, the rates of tax on such gain in relation to holding period shall be as under:
-- Up to 1 year (10 percent)
-- Between 1 to 2 years (7.5 percent)
-- Between 2 to 3 years (5 percent)
-- Over 3 years (0 percent)
Concessional rate The above rates of tax will be reduced by 50 percent on the first sale of immovable property acquired or allotted to ex-servicemen and serving personnel of Armed Forces or ex-employees or serving personnel of Federal and Provincial Governments, being original allottees of the immovable property, duly certified by the allotment authority.
Cases of filers, without disclosure of immovable properties
Our analysis of the provisions introduced reveals that in case of a person being a filer, properties which were acquired before or after July 1, 2016 and are not declared shall not be eligible to the regime as explained above. Any gain on disposal of such property might be subject to tax at the rate as prescribed above, however such person shall be subject to provision under Section 111 of the 2001 Ordinance, on account of non-declaration of such property. Nevertheless, such addition shall be limited to the amount prescribed in the valuation table notified by the FBR. Addition under section 111 is subject to tax at the normal rate of tax as prescribed under the law. However, such addition under Section 111 will be practically barred by the limitation period of 5 years for amending the return position under section 122 of the 2001 Ordinance.
Cases of non-filers No regime has been prescribed for non-filers. Nevertheless, whenever a non-filer decides to file the returns of income for the earlier years, then addition to income and determination of capital gain shall be made in the manner similar to cases of filers. However, in this case, period of limitation will not be limited to 5 years for amending the return position as stated above; however the Commissioner can issue a notice to such person, under the recently amended provisions of section 114 of the Ordinance, to file a return of income for one or more of the last ten completed tax years.